Leaderboard Zone

Google filed a 10-K this week (thanks Gary) and there were a few tidbits in there. If you’re a Google geek, it’s worth a read.

Google had more than 10,00 employees at the end of 2006, for example, and spent nearly $2B in capex in 06. Advertising is 99% of all revenues for three straight years. The UK is 15% of Google’s revenues. The US has declined from 66% to 57% in three years. TAC (traffic acquisition costs) are blended into overall revenues so it’s more difficult to figure the TAC percentage as a portion of Adsense, (a bit of other stuff may be in that figure), but if you take TAC as all Adsense related, you come up with $3.3B paid out, on $4.16B in Adsense (Google Network) revenues, or 79%, which is consistent with previous numbers.

Astonishingly, cost of sales is 8 percent. Very low and very efficient. Contractual obligations to publishing partners came in at $1.17B.

The YouTube acquisition is detailed, technology from that was valued at just $24mm. Goodwill (if ever there was an irony…) is the majority of the price. There’s $45mm in liabilities assumed…

dMarc and other was also listed. Not sure how the “others” was factored in, but again, the majority was “goodwill.” Again, it was an on the come play…

I am sure I’ve missed tons of stuff in here, but that’s why the link is there.

The headline, which I’ve buried: Google is sitting on more than $11B in cash and liquid instruments as of the end of 2006.

This is a long and wholly unashamed rant addressed at Google’s current financials. I justify it as a reaction to the glare created by the big numbers surrounding Google, which tends to hide the simple truth that Google’s main competitors are only just emerging, and that the current financials are flattering and unsustainable. $11bn in cash or cash equivalents might seem like quite a lot today – but it won’t last long.

The market still thinks Google’s value is worth almost as much as the combined value of Disney and Time-Warner because it expects Google to capture a very big share – more than half – of all online advertising dollars (predicted to reach about 10% of total ad revenues by 2012).

That is certainly what history is telling us – looking at past performance, it is hard to see who can effectively challenge Google for a share of those revenues.

However, as set out below, the view taken by the market is fundamentally flawed.

As has been repeated many a time on this site, Google’s core business is to make money by capturing consumer attention and then selling that attention to advertisers. In that sense, it is no different from NBC, CBS or any TV network. Like these organisations, Google wins if it can capture lots of consumer attention and be very effective at monetising that attention through ad sales. Equally, if Google does not capture the attention, it can’t monetise it.

Google’s genius lies in its ability to deal with the fragmentation of consumer attention. Unlike linear TV, where we cluster together around a limited number of programmes, our collective online attention is literally fragmented across billions of webpages. Yet Google can capture each individual micro-fragment of attention, and as if that was not enough, it can find precisely the advertiser who is willing to pay the most for that micro-fragment.

Where does this ability come from? It is basically because we use Google to navigate the web. When you search, the search results page captures your micro-fragment of attention, and Google sells that micro-fragment of attention to an advertiser who has bought the key words you used in your search. Whats more, the advertiser only pays if you actually bother to click. In addition, when you arrive on a content page, Google is incredibly effective at placing an ad on that page that is likely to be highly relevant to you.

The question therefore is whether Google will be as effective at capturing our attention in the future as it is at the moment?

Or, in other words, is there a better way of navigating the web than using a search engine?

The answer is, when the web consists of lots of text files (the online equivalent of news and magazine pages), then search engines are great. In fact, its what they were built for.

However, at some point not too far in the future, the web will offer additional billions of minutes of Television, Film, Music and other rich media, and our total balance of consumption will shift away from ‘mainly text and text services like e-mail’ to a more balanced mix of text, audio and video. How much time will we spend online on audio and video? In the off-line world, we spend 5-10 times as much time consuming TV and music as we do on reading.

This is where we get to the meat. If we spend relatively more time on the web consuming audio and video, we will spend more time trying to navigate audio and video. And search engines have a real problem navigating this realm.

Why? This is over- simplifying but search engines search on words. A digital video file is a bunch of instructions for arranging pixels on a screen. Not that helpful for a search engine. User generated metadata (tags etc.) is a way of adding words to the video or audio so search engines can search on it, but this is unlikely to provide the answer for billions upon billions of minutes of clips.

Two other options for navigation exist.

One is to leverage human recommendation, for example in social networks. We would find media by relying on friends in our network – as they find stuff, they recommend it to us. Social networks are already becoming vehicles for launching new content.

The second option is automated recommendation, based on transactions. This is how you navigate Amazon or iTunes – people who bought this also like this. It is instructive how many people don’t use search engines once they get to large content collections like iTunes or Amazon.

Both these options have proven to be highly effective in offering good navigation. The existence of the long tail proves the point.

These are the challengers to Google. Much like CBS, NBC and CBS have been slugging it out for ratings over the decades, we will see a big battle in the future between search engines, social networks and recommendation engines to capture consumer attention.

What is already clear is that Google will have a much bigger fight on its hands when consumption of audio and video becomes a bigger attention grabber online. It will lose some share of consumer attention to the new contenders, and consequently will not be able to monetise that attention. $11 billion might seem like a lot now – when Google starts facing some real competition it will soon melt away, and it won’t be easily replaced.

confession: I’ve spent a good chunk over the last few years worrying about Google as a potential intermediator between content owners and audiences in a professional capacity as head of new media strategy for the BBC. Although I now work in the capital markets, I retain an obsessive concern with Google’s numbers and the rather unattractive need for the occasional vent.

Quite recently, it suddenly occured to me that Google really will struggle in a rich media world. Once I got comfortable with that position, I tried to dig into what fundamentally drives the value of Google. Once you ask the question, the answer is obvious. Google will be valuable (in a capital market sense) as long as it is so universally helpful in navigating the web. And as long as we are all looking for text, its helpfulness is indeed universal. As a significant chunk of our time transitions to navigating audio and video, Google’s universal helpfulness will be in relative decline, and its capital market value will follow.

Lars, There is one thing missing in your formula: The amount of brain power that’s behind Google.
Even if what you say about audio and video getting *a lot* more popular in Internet than text, becomes true; to show a relevant ads you need to digest videos and the context the video is in. Then you can relate that to what people really want from watching that video and show them an ad.
It is true what you say about this problem being harder to solve for audio/video than for text. But I guess with the amount of processing power, raw information, expert programmers and money that Google have it would be much harder for small companies and academia to compete with that. And I guess, this is what makes Google (and a few other large companies) be more successful than others in that future business, not TV companies. But that’s only if they really know the importance, the way you know, and push for it.

lars – a very interesting analysis. Pooya’s point is well taken in that Google is well positioned to aquire or invent the new search tools that will be needed, but I tend to agree with you that Google may have big challenges ahead. So far they have *two* home runs – great ranking and superb monetization of that traffic. As the search landscape diversifies it will be hard to hang on to the top position.

Lars, I think there is something to what you say–Google has competition coming, but I think the space and market for google is still growing. Even if they don’t keep the same percentage, they may at least maintain a great deal of their value. Next, I seriously doubt people will stop using search engines–even for videos that might be considered useful. The best search technology for finding the right video may not appear at Google, but I think it’s likely Google will continue to provide good results across media type boundaries, so it may still come up with some of the best results.

Put another way, if providing the right results and ads will be trouble for Google, won’t it be trouble for its competitors too? Google already has competition, and they’re already looking into video: youtube and google video are examples.

It is not just a matter of being able to match a video with an ad. That’s not that difficult a problem, because one can do speech recognition on the sound track and then perform an LSI-based topic match. We worked on that at Sun about ten years ago, and Sun may or may not have relevant patents – I don’t know what happened.

You also have to consider the value of the ads, which again are determined by the usage context. In search, the user is looking for some place to go, so showing an ad for the thing the user wants *right at that moment* is highly likely to result in a click that’s fairly likely to be followed by a transaction, such as a purchase or becoming a qualified lead in B2B.

In video, people are quite often just goofing off. It’s a relaxing/entertaining medium, as opposed to a research medium. Search and text-dominated websites are for getting answers and getting things done, and thus for doing business. Video is for relaxation. (Mainly – of course there are also instructional video and videos of CEO speeches, but that’s not where most YouTube users spend their time.)

The value of showing an ad is substantially lower when the viewer won’t act on it.

To echo Jakob’s point a bit, one of the real strokes of genius of Google AdWords was the way it blurred the distinction between search and advertising. While we seem to have developed so-called banner blindness, Google’s advertising model pulls us in by remaining relevant to our tasks. Even knowing the results on the right are ads, I also know that they’ve proven valuable more often than not, and frankly, they don’t cost me any more than normal search results.

On the video side, all attempts at advertising have tapped into our dislike for traditional advertising. If I go to watch a video, whether it’s on CNN.com or YouTube, and it starts with a mandantory ad clip, I personally will almost always stop watching. Finding a viable and attractive video advertising model is going to be an uphill battle.

One is to leverage human recommendation, for example in social networks. We would find media by relying on friends in our network – as they find stuff, they recommend it to us. Social networks are already becoming vehicles for launching new content.

The second option is automated recommendation, based on transactions. This is how you navigate Amazon or iTunes – people who bought this also like this. It is instructive how many people don’t use search engines once they get to large content collections like iTunes or Amazon.

Lars, There is one thing missing in your formula: The amount of brain power that’s behind Google.
Even if what you say about audio and video getting *a lot* more popular in Internet than text, becomes true; to show a relevant ads you need to digest videos and the context the video is in. Then you can relate that to what people really want from watching that video and show them an ad.
It is true what you say about this problem being harder to solve for audio/video than for text. But I guess with the amount of processing power, raw information, expert programmers and money that Google have it would be much harder for small companies and academia to compete with that. And I guess, this is what makes Google (and a few other large companies) be more successful than others in that future business, not TV companies. But that’s only if they really know the importance, the way you know, and push for it.

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Google it’s a very solid company with several web 2.0 business and the most important thing for them is that they have a lot of liquid cash in case they want to buy or invest in more companies like youtube.